The Federal government has thrown another tool in the toolkit for sourcing a down payment on a new house. The First Home Savings Account (FHSA). While it is an added benefit, it does make it a little more complicated in knowing how to properly use all the savings vehicles that are available. Around 75% who plan to buy a home in the next five years plan to use a down payment, but 24% of them say they haven’t yet started saving.
Between the First Home Savings Account (FHSA), Tax-free Savings Account (TFSA), and the Home Buyers’ Plan (HBP), which is best for Canadians who want to jumpstart the saving process? Well, you don’t necessarily need to choose just one. And there are some opportunities to transfer assets between these accounts to maximize tax benefits.
What is the FHSA?
The FHSA is a new registered plan intended to help Canadians save money towards a first home purchase. In terms of its structure and tax-treatment, the FHSA is like a hybrid of an RRSP and a tax-free savings account.
How the FHSA works:
- Contributions are tax-deductible.
- Money inside the FHSA grows tax-sheltered, and withdrawals are tax-free.
- You can contribute $8,000/year, up to an overall maximum of $40,000.
- Unused contribution room can be carried forward.
- Deductions can also be carried forward and applied in future years.
- The account can stay open for 15 years or until the account holder is 71.
- If you don’t purchase a home, your FHSA can be transferred tax-free to your RRSP without affecting contribution room.
- If you make a withdrawal from your FHSA for something other than a home purchase, the withdrawal is taxable.
Who the FHSA is best for
Any first-time home buyer would do well to incorporate an FHSA into their savings strategy. With deductible contributions and the ability to carry forward the deductions to higher-income years, it’s also a great tax-planning tool.
And, if your RRSP retirement savings are ahead of schedule, you could transfer some of your RRSP assets to an FHSA, subject to the FHSA contribution guidelines, and enjoy tax-free withdrawal of the money, unlike RRSP withdrawals which are fully taxable, or HBP withdrawals which need to be repaid.
What is a TFSA?
A TFSA is a flexible registered investment account in which you can save money for any financial goal. Contributions are not tax deductible, but withdrawals, and any investment growth within the TFSA, is tax-free.
How a TFSA works:
- Allowable contribution room increases each year. For 2023 it is $6,500.
- Unused contribution room has been accumulating since 2009. The total 2023 contribution room available is $88,000.
- Withdrawals are tax-free and the withdrawal amount is added back to your contribution room the following year.
Who the TFSA is best for
TFSAs aren’t specifically or solely for saving up for a home purchase, but they can be a useful tool for folks who are doing so, especially those without RRSP funds to spare, or who can’t qualify as a first-time home buyer.
With tax-free withdrawals, no need to repay the money, and the re-addition of withdrawal amounts to available contribution room in the future, TFSAs might also be the better choice for folks who have yet to decide a firm timeline for buying or who think they might change their mind down the road.
If you already have assets in a TFSA that you intend to use for a home purchase, you could transfer money from your TFSA to your FHSA, subject to contribution limits and receive a tax deduction for the amount transferred.
What is the Home Buyers’ Plan?
The HBP, allows you to borrow up to $35,000 from their RRSP for a first-time home purchase. You need to repay the withdrawal amount over the next 15 years post purchase or have the repayment amount added to your taxable income for the year.
How the HBP works:
- You must qualify as a first-time home buyer. You cannot have owned a home you lived in for the last five years.
- You can withdraw up to $35,000 for costs associated with a first-time home purchase or up to $70,000 for couples.
- The minimum annual repayment is 1/15th of the amount withdrawn.
Who the HBP is best for
If you have been actively investing in your RRSP for many years and the majority of your overall assets are inside your RRSP, then borrowing from it for the Home Buyers’ Plan may make sense. If you are in a high-income tax bracket, you can enjoy the tax deductibility of your RRSP contributions. Just make sure you are reinvesting the tax refund to maximize value.
But because of the requirement to repay HBP withdrawals, it may make more sense to maximize tax-deductible FHSA contributions first, before investing money into your RRSP with the intention of using it for the HBP.
The bottomline
Canada’s strict lending rules make down payments a critical part of home affordability especially for first-time buyers. Homes priced at $500,000 or below require at least 5% down with a $25,000 minimum. There are precious few houses to be found at that price point right now.
A home selling for Canada’s average sale price in January 2023, $612,204, would require a down payment of at least $36,220. That’s a big chunk of change to stash away no matter what tax breaks you get or compound interest you earn. It will take most people years to accomplish. To ensure you’re set up to pass the mortgage stress test, it’s important to start saving money for a down payment as soon as possible, regardless of when you plan to buy. Ultimately, any account that earns a high rate of interest is a reasonable place to stash your down payment savings. Then, think about whether a TFSA, HBP or the FHSA might be the right way to amplify those savings. Maximizing savings for a new house is key to Keeping Life Current.
